Consumer champion Martin Lewis has issued a stark warning about a fundamental tax principle that continues to baffle countless Britons, including many approaching state pension age. Speaking candidly on his popular BBC podcast, the renowned money expert delivered what he described as essential "life lessons" that everyone should comprehend to navigate their financial affairs effectively.
The Alarming Knowledge Gap
Lewis expressed profound astonishment at the sheer number of individuals who remain unaware of basic taxation mechanics. He revealed that even older citizens, who are on the cusp of receiving the state pension at age 66, frequently demonstrate confusion about how income tax operates. "I am still gobsmacked," Lewis admitted. "I've even had people who are about to go into the state pension age, and they ask the question about income tax. They still don't realise that income tax is a marginal issue."
Decoding the Marginal Tax Misconception
The core misunderstanding, according to Lewis, revolves around the concept of marginal tax rates. He illustrated this with a common query he encounters: "I will get people saying, they are about to make me a higher 40 percent rate taxpayer by giving me a salary increase, should I turn it down because I don't want to pay 40 percent tax on all my income?"
Lewis was quick to correct this flawed assumption, emphasising: "Of course, you only pay 40 percent tax on the amount above the threshold, you're still earning more." He lamented that the persistence of such confusion indicates a significant failure in financial education across society.
How the Current System Actually Works
Under the present tax framework applicable in England, Wales and Northern Ireland, workers benefit from a standard personal allowance that permits them to earn up to £12,570 annually without paying any income tax. This allowance remains in effect as earnings increase, with the basic 20 percent rate applying to income between £12,571 and £50,270.
The higher 40 percent rate then takes effect for earnings between £50,271 and £125,140. Crucially, the personal allowance remains intact within this bracket, meaning income between £12,570 and £50,270 continues to be taxed at the standard 20 percent rate, not at 40 percent.
The Critical £100,000 Threshold
A particularly important nuance emerges once income exceeds £100,000. Beyond this point, the personal allowance begins to diminish gradually – for every £2 earned above £100,000, £1 of the personal allowance is forfeited. Since each pound of this depleted allowance would have been taxed at 40 percent, workers effectively face a 60 percent tax rate on earnings between £100,000 and £125,140.
Any income surpassing £125,140 attracts the additional rate of 45 percent. It's worth noting that Scotland operates under a slightly different income tax system with different bands and rates.
Lewis's Urgent Advice for All
In light of these widespread misunderstandings, Lewis urged every individual to take personal responsibility for understanding taxation fundamentals. "Do make sure you understand about tax, and you understand about your payslip, and you understand what your pension is," he advised. The money saving expert further recommended that people "look to save or even better in the long run, look to invest" to secure their financial futures.
His message serves as a timely reminder that financial literacy, particularly regarding taxation, remains an area where many Britons need to improve their knowledge, regardless of their age or career stage.
